Do China’s Stock Markets Matter?
Carl Walter
Berkeley Center for Law, Business and the EconomyUniversity of California, Berkeley
November 1, 2011
Overview
What role do China’s stock markets play in the overall political economy?
How can an economy with no private property develop equity capital markets?
How were state-owned enterprises transformed into corporations and listed?
- slicing and dicing corporates
- creating the National Team
- some consequences of this original restructuring approach
- restructuring the banks
- some consequences of this restructuring approach
Final comments
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China’s equity capital markets are not important financiallyCorporate capital raised in Chinese markets
Equity = 5.7% Bank Loans = 85.4% Corporate Bonds = 8.9%
Aggregate number of domestic Chinese IPOs
Plus 800 Chinese companies listedon international markets
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The State
The State provides supplies and the State distributes the output
State-ownedEnterprise
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SOEs—an indivisible part of the StateBe
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1992: China embarks on Corporatization for its SOEs
ShenzhenRiots
ShenzhenRiots
Southern Tour
Southern Tour
The Contract System is Replaced by Corporatization
January May June August October October
The “Standard Opinion” gave legal basis to corporatization and legally defined share classes• Created non-tradable shares
Cooperation with Stock Exchange of Hong Kong provided access to a large and mature market • Put domestic market development in a subordinate position
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1993 – 1997: SOE Reform via public listings
The Company Law affirmed corporatization as the basis of SOE reform
Securities Law affirmed CSRC as sole regulator
Oct. 92—1st overseas listing
July 93—1st HK listing
Aug. 94—1st NYSE listing
Oct. 97—China Telecom IPO
July 93— Exchange Regulations
July 93— Accounting standards
July 94— Company Law
July 99— Securities Law
Two track listings Creating legal basis
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Oversight
NewCo becomes a fully incorporated company wholly-owned by its Ministry in the form of State Shares
Standard Opinion—corporatization method 1
SOE
Govt Ministry
NewCo
SOE
Selected net assets State shares
100% ownership
Gov’t Ministry
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What if Multiple SOEs under the same Ministry are involved?
SOE#1 and #2 end up receiving State Legal Person shares in return for their net asset contributions. Public investors get A shares in return for cash.
Standard opinion—fund raising method 2
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Non-State Investors
DomesticLP shares
LP shares or A/B/H shares
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The type of share depends on who invested
Shanghai and Shenzhen Exchanges market structure
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SOEs—big and complete, small and complete
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How do you take THAT and create a modern corporation?
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Slicing and dicing: a thorough restructuring
Out
???In
Factory #1 Factory #2 Factory #3
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Cash
Receivables
Fixed Assets
LT Receivables
LT Investments
Intangibles
ST Debt
Payables
LT Debt
Verify with bank statements
Verify payment schedule
Identify ownership, conduct asset appraisal
What are these? Who owes them?
What are these?
What are these?
Whose debt, can it be gotten rid off?
Whose payables, ditto
Whose debt, ditto
A thorough restructuring 2
Comparative Companies plus draft audits are the critical report card
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Does the proto-NewCo have a positive net worth? Is it too much?Berk
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The goal of restructuring: Valuation, one fundamental problem
– Profitability both in absolute and in marginal terms– Sustainable growth prospects: what are the industry’s prospects– Strong balance sheet – Competitive products– Sound management– Management oversight through a Board of Directors
The NewCo is designed to resemble as much as possible an existing listed company in the same industry
The problem is: even if all the above goals are achieved, the NewCo remainsan untested company with no operating track record. It is fundamentallynot comparable with existing listed companies operating in market economies
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Non-productiveassets
Retirees
Productive assetsand workers
The cash generated by the productive assets and labor supports everything and everyone else in the SOE
A single unrestructured Chinese enterprise: another problem
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In China the SOE is the country’s social security program
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The cash generated by the productive assets and labor can no longer flow directly to the rest of the SOE, except a trickle as dividends.
How can the Parent now support itself and its staff?
The post-IPO cashflow crunch
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Listed Co.
Parent Co. (SOE)
ADRS
H shares
A shares
Post-offering overall Group corporate structure
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Individual enterprises
Ministry
Unrestructured industry: a third problem
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The creation of National Champions
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Parent SOE companies
New company
Ministry
Holding Co. Ltd.
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100%
100%
75%
Guangdong MobileZhejiang MobileJiangsu MobileFujian MobileHenan MobileHainan Mobile
100%US$4.5 bn= cash contributed for shares
100%
100%
US$6.6 bn = appraised Net Asset Value contributed
25%Guangdong BVI
Zhejiang BVIJiangsu BVIFujian BVIHenan BVIHainan BVI
Ministry of Posts and Telecommunications
China Mobile BVI
China Mobile Hong Kong Group
China Mobile Communications
Corporation
China Mobile (HK) Co. Ltd.
NYSE/HKSEListed SharesNYSE/HKSE
Listed Shares
The China Telecom IPO, 1997US$4.5 billion dual listing
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1998: government streamlining eliminates industrial ministries
1950-1998 1998-2003
State Asset Management
Bureau
Ministry of Finance
Ministry X
ListCo
SOE Y
Ministry X
ListCo
State Asset Management
Bureau
Ministry of Finance
Group Company
Who “owns” the group company?
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2003: SASAC is established: yet another problem
State Administration of State Assets Commission
(SASAC)
SOE Group
ListCo 4ListCo 3ListCo 2ListCo 1
50%+50%+ 50%+50%+
Board of Directors
Supervisory relationship
Equity ownership
SOE Group
SOE Group
SOE Group
Board of Directors Board of Directors Board of Directors
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Who is the beneficiary of SOE profits?Be
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What to do with the money?Be
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Invest in brother and sister SOE listings
* denotes overseas returnee issuer
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Who profits? Your brother and sister SOEsBe
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An alternative to SASAC: Central SAFE Investments
MOF
AgriculturalBank of China
China Construction
Bank
Bank of ChinaIndustrial andCommercial
Bank of China
China Development
Bank
Huijin
Original Huijin investments pre-2005
Post-2005 Huijin investments
100%85%50%48.7% 50%
Board of DirectorsBoard of Directors Board of Directors Board of Directors Board of Directors
PBOC
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The Big 4 banks: from 2004-2010 paid US$84 billion in cash dividends
Source: bank H-share annual reports for the Big 4 banks
The four banks raised US$106 billion in IPO proceeds =ABC 2010 IPO of US$22 billion + US$84 billion in cash dividendsBe
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Final comments
The adoption of shares and stock markets led to the creation of a national capital market, China first
The corporatization of SOEs turned them into property which could be “owned”
- the process enhanced the independence and power of SOE management
Experience with markets and corporatization led to a more sophisticatedrestructuring approach for the banks
- but this approach put banks into play
Overall, corporatization and shares created property that the State could monetize if desired
- could be used to fund a social security program- could be used to pay down state obligations
Created the infrastructure for true privatization
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